Glenn Lowson/The Globe and Mail
As her sixtieth birthday approaches, Lana is exploring ways she can retire in a couple of years without outliving her savings. She augments her $52,000 a year in salary by renting out an apartment in her house. As a widow, Lana also gets a Canada Pension Plan survivor's benefit.
Her plan is to sell her city house, pay off the balance of her mortgage and move to her cottage, which is near the small town where she grew up. "I have many friends and relatives in the area," Lana writes in an e-mail. Although the cottage is winterized, she'd like to spend $100,000 or so renovating it.
Lana's retirement spending goal is modest: to generate $3,000 a month after tax, indexed to inflation.
"I try to use the income I receive from rent to make extra down payments to my mortgage," Lana writes. She has some savings and a defined-contribution pension plan at work, where the money is invested in mutual funds.
"I manage my own [RRSP] investments, which are 100-per-cent common stocks and largely Canadian," Lana adds. "Am I properly diversified given my age and retirement plan?"
We asked Ross McShane, director of financial planning at McLarty & Co. Wealth Management in Ottawa, to look at Lana's situation.
What the expert says
Lana can achieve her goal with money to spare and still have the equity in her cottage, Mr. McShane says. This will give her a cushion in case she earns less on her investments than forecast, spends more than anticipated or needs care in her old age.
Mr. McShane based his calculations on a 4-per-cent rate of return on Lana's investment portfolio and a 2-per-cent inflation rate. He assumes Lana sells her city house when she retires in April, 2018, for $323,000 after subtracting real estate fees. Even if Lana designates her city house as her principal residence, she may have to pay capital gains tax on the part that was rented. She should check with her tax adviser when the time comes.
But will $36,000 a year be enough, the planner wonders? At the moment, Lana has no budget for travel, and she's spending little on entertainment and recreation, he notes. "Will this change when she has plenty of leisure time at her disposal?" On the flip side, shelter expenses will be lower when she has only one property to manage.
In her first full year of retirement, Lana will have to draw the balance of her lifestyle needs (over and above her CPP survivor's benefit of $490 a month) from her work pension, her registered retirement savings plan (RRSP), her non-registered account (proceeds of the house sale) or her tax-free savings account (TFSA).
"My advice is to transfer her pension plan into a life income fund (LIF) at retirement and draw the maximum amount from it such that she can benefit from the $2,000 federal pension income credit," Mr. McShane says. In addition, she should withdraw enough from her RRSP to take full advantage of her low marginal tax bracket.
"Based on 2016 rates and brackets, in 2019 and 2020 (age 63 and 64) she would withdraw enough from her RRSP to increase her taxable income to $45,000," to use up the 20-per-cent and 24-per-cent tax brackets, the planner says. "She would give up some tax deferral but should be further ahead." If she needed more money, she could draw from her non-registered portfolio (income and then capital).
She should avoid withdrawing from her TFSA until her other accounts have been depleted. Lana could fund her unused TFSA contribution room from the proceeds of her house sale "and continue to transfer from her non-registered account to her TFSA annually," Mr. McShane says. This would allow the investments to grow tax-free.
From 65 to 71, when she would be getting full Canada Pension Plan and Old Age Security benefits, Lana should withdraw enough from her RRSP to increase her taxable income to $36,000, when the age credit starts to erode.
"Lana is not a high-income earner. She is on a modest budget, so every dollar of savings is important," Mr. McShane says. The age credit, available starting at 65, would be worth about $1,300 a year to her. The balance could be drawn from her non-registered account.
The aim is to draw down her RRSP before the mandatory minimum RRSP/RRIF withdrawal kicks in at 72, when she will be in a higher tax bracket (30-per-cent marginal rate at a minimum), the planner says.
As well, Lana has no spouse to leave her RRSPs to, so her estate could be faced with a 54-per-cent marginal tax if she were to die prematurely and leave a significant surplus.
As for her investments, Lana's primary goal should be to generate a constant stream of income during retirement, Mr. McShane says. Reducing her reliance on capital gains from stocks, which can be unpredictable, and instead including common stocks with solid dividends, as well as income-producing investments such as bonds and preferred shares, will help smooth out her income during retirement and provide more certainty. A portfolio that is well diversified, both geographically and by sector, will also help manage risk, he adds.
If Lana continues to manage the portfolio herself, she might choose to use exchange-traded funds for their diversification, convenience and low fees rather than individual securities.
+++++++++++++++++++++++++++
Client situation
The person: Lana, 59.
The problem: Can she afford to retire at 62 without running out of savings?
The plan: Sell the house as planned, pay off the mortgage, renovate the cottage. Review her investments to ensure they are properly diversified and not too risky. Aim to generate a steady stream of income.
The payoff: A secure retirement with a little extra.
Monthly net income: $4,080
Assets: Bank accounts, TFSA $13,000; RRSP $390,000; defined contribution pension plan $108,000; house $340,000; cottage $325,000. Total: $1.18-million
Monthly disbursements: Mortgage $700; cottage $750; property taxes $260; home insurance $70; maintenance and improvements $235; utilities $175; transportation $610; grocery store $300; clothing $105; life insurance $10; drugstore, dentist $20; telecom, TV $90; entertainment, dining $45; hobbies, activities $85; gifts, donations $40; pension plan contributions $175. Total: $3,670. Available for savings $410
Liabilities: Mortgage $114,000
Want a free financial facelift? E-mail finfacelift@gmail.com. Some details may be changed to protect the privacy of the persons profiled.